If you grew up in Pakistan in the last few decades the Nirala brand will surely have held a special significance.
Inspired by the patisseries of Paris and the most exclusive Pakistani sweets at the time, Nirala’s products, sold through its 39 stores, were central to any celebration.
From its early days in 1948, over three generations Nirala grew from a modest outlet in Lahore into a thriving enterprise, diversifying into dairy, bottled water, restaurants and other businesses. But by 2014 the company had gone bankrupt.
Nirala is a textbook example of the pitfalls that can beset family-owned businesses. These are typically privately held, with family members dominating not just the ownership, but also management, operations and overall strategic direction.
Anecdotal evidence suggests that most of Pakistan’s 77,000-plus private companies are family owned. Many of the country’s 532 publicly listed companies are also controlled by individual families.
While there are success stories, for most family-owned companies sustainability is a challenge, wherever they are based. Research suggests that 70% of family businesses fail or are sold before the second generation can take over, and only 10% survive to the third.
Six major issues typically mitigate against the sustainability of family-owned businesses:
- The family muddle: Family members may struggle to separate family politics from business affairs. Differences are often exposed after the death of the head of the family.
- The rainmaker void: Businesses are often built around strong dynamic individuals over one or two generations. But in the absence of robust succession planning, companies often go astray after these ‘rainmakers’ are gone.
- The opaque wall: Privately owned family enterprises enjoy the luxury of minimal reporting and disclosure requirements. But this can lead to weak financial controls or mismanagement, hiding poor decisions behind a wall of opacity.
- Too many baskets: To hedge their risks, family-owned businesses may be tempted to diversify unwisely. Public companies, on the other hand, generally have a low appetite for excessive diversification, especially outside the core competence of a business, anticipating a negative reaction by the market.
- Lack of high flyers: Family-owned businesses traditionally do not attract top talent, due partly to limited upward mobility and the dominance of family members. But over the years, not attracting high flyers – the best of the best in management and strategic terms – tends to shackle growth and performance.
- Obstacles to raising finance: Lastly but most importantly, family-owned businesses are typically averse to diluting ownership and control, which inhibits their ability to seek equity investments. In addition, the lack of transparency is unattractive to investors. As a result, debt is often seen as they only way to raise funds.
Not attracting the high flyers or top talent tends to shackle growth and performance
Ultimately, Nirala became a victim of too many baskets and borrowing but not selling. Its ultimate default on a massive bank loan – taken out to expand beyond its core business – proved to be the final nail in the coffin.
Faisal Farooq, Nirala’s last CEO and third-generation owner, has admitted that if he had to do it all over again, he would focus on his core retail business, ensure much stronger financial controls and seek equity investment.
Corporate governance is key
Many of these problems are ultimately rooted in poor corporate governance. A sound governance structure can integrate the strengths of family and business, ensuring robust succession planning, enhancing transparency, attracting low-cost debt and equity and gaining access to quality talent.
One way to achieve a strong structure is to go public, therefore becoming subject to increased regulatory requirements and having access to public equity, thus lowering reliance on debt.
Public companies have to comply with much stricter governance requirements. Management becomes more democratic and transparent, thus making the organisation more attractive for employees.
But according to Sadia Khan, a commissioner at Securities and Exchange Commission of Pakistan (speaking in a personal capacity), public listing by itself is just the first step, and must be followed by adherence to the code of corporate governance in letter and spirit.
The second option is to voluntarily adopt a higher level of corporate governance controls. While the Pakistan Institute of Corporate Governance’s voluntary code for family-owned businesses requires updating in the light of the new Companies Act 2017, it provides a sound platform of guidance.
Role of the accountant
This is where professional accountants can help, highlighting the importance of good corporate governance and controls and educating business owners on sustainability challenges.
Khan says there are sound commercial reasons for such controls: good corporate governance can go a long way in enabling these businesses to enter into international partnerships, joint ventures and other equity investments.
The magic pill of corporate governance may seem bitter to many business owners, but it could make the difference between a sustainable future for their life’s work, or an untimely demise.
